Ending Stretch IRAs

[kannon]

Morning.

The new bill that has bipartisan support and raises RMD to age 72 also has language to end the stretch IRA above $400k.

I was hoping to use this to move Roth IRA money to the next generation. The change to now it would be a lump sum with significant tax implication and no longer tax deferred over the kids lifetime is a BIG financial hit.

Not hearing any pushback.

Am I missing something? Is there an alternate way of moving money to the next generation without a big tax hit? Maybe I need to start attending free dinner seminars and look into life insurance plans.

Kannon

 

[Golden sunsets]

Agree. it will be a big problem for the next generation. I suspect I-ORP calculators will become very popular and FA's will generate a lot of business calculating whether it makes sense for our generation to aggressively withdraw funds at our marginal tax rate, vs leave tIRA'a to our children who might be in a higher or lower tax bracket than us during those 5(or 10) years.

 

[pb4uski]

The intent of these accounts was to defer income... presumably until retirement when your tax rate would be lower. If it turns out that your tax rate in retirement is the same or higher than when that income was deferred then either you miscalculated or you have been more financially successful than what you thought... so be happy.

It seems that some people think that tax-deferred means tax-free... and they go bonkers at RMDs and the prospect of eventually having to pay tax on that income and accumulated investment earnings... that the income would eventually get taxed was part of the deal... so get over it.

I suspect that very few people who deferred income in their 20s or 30s or 40s were thinking... ah, my grandchild can inherit this and the taxes will be stretched over 50 or 60 years... or my kids can inherit this and the tax would be stretched over 30-40 years... 10 or 15 years would seem reasonable to me... I never expected these monies would be tax-free.

 

[RunningBum]

I was hoping to use this to move Roth IRA money to the next generation. The change to now it would be a lump sum with significant tax implication and no longer tax deferred over the kids lifetime is a BIG financial hit.

Roths aren't taxed so I don't get the "significant tax implication", and a 5 or 10 year distribution isn't quite a lump sum. All that happens is that money is more quickly moved to taxable, and gains there aren't tax free. Instead they'll have to invest it in taxable more quickly than the old schedule, but if they do it tax efficiently they will probably be paying 15% on qualified dividends and LTCGs, and if they don't sell, their heirs get a stepped up basis. It's a hit, but I don't see it as BIG.

You mentioned life insurance. Doesn't that amount to the same issue, when you die, they will get money but it'll be in taxable space and gains on that are taxed?

If you're talking about a tIRA, yes, that's a bigger deal. This becomes yet another complexity in the Roth conversion calculations. It also more strongly favors spending from a Roth and preserving taxable holdings with unrealized capital gains. Again, it's not a lump sum, just a 5 or 10 year distribution, not lifetime.

 

[steelyman]

I’m not good about keeping up with progress/status on bills (I get a lot of info from member posts here). To my knowledge, it’s not been finalized as of late April 2019, so there’s nothing concrete on which to plan.

The thread is relevant and timely so I hope it stays alive as specifics take shape.

 

[MichaelB]

There is no summary of the house bill. The summary of the senate bill is here https://www.finance.senate.gov/imo/media/doc/RESA Summary 4.1.19-banner-converted.pdf

The thread topic is covered in Section 501. Note, based on this text, there are still some exceptions. (My bold)

Section 501. Modifications to Required Minimum Distribution Rules (sec. 401(a)(9) of the Code)
The legislation modifies the required minimum distribution rules with respect to defined contribution plan and IRA account balances upon the death of the account owner. Under the legislation, the account balance is required to be distributed and included in income by the beneficiary by the end of the fifth calendar year following the year of the employee’s or IRA owner’s death.

The requirement does not apply to distributions to the surviving spouse of the employee (or IRA owner) or to beneficiaries who are disabled or chronically ill individuals, individuals who are not more than 10 years younger than the employee (or IRA owner), or the child of the employee (or IRA owner) who has not reached the age of majority.

An exception to the five-year distribution deadline is provided for each beneficiary to the extent that the balance of the account they receive from the deceased employee or IRA owner does not exceed $400,000, valued as of the date of death.

The modification limits the tax benefit for bequests of retirement savings, while protecting the needs of surviving spouses and certain other beneficiaries, and continuing to encourage retirement savings by beneficiaries of such accounts. The legislation also adds new reporting requirements on the account balances held by beneficiaries of ideceased employees and IRA owners to ensure compliance.

 

[steelyman]

Thanks, MichaelB. I remember that summary being posted (by you?) recently.

Another “bold-worthy” sequence is the mention of the $400K exception as it applies to a beneficiary’s portion, valued at date of death.

This would come into play for inherited IRAs for siblings and me. The original owner was employed in the public school system so was able to accumulate a nice but not crazy-rich amount.

[ADDED] If that exception goes through, my take (definitely NOT an expert) is that a $1.2 million IRA could pass to 3 children and stay under the limit.

 

[MichaelB]

Thanks, MichaelB. I remember that summary being posted (by you?) recently.

Another “bold-worthy” sequence is the mention of the $400K exception as it applies to a beneficiary’s portion, valued at date of death.

This would come into play for inherited IRAs for siblings and me. The original owner was employed in the public school system so was able to accumulate a nice but not crazy-rich amount.

[ADDED] If that exception goes through, my take (definitely NOT an expert) is that a $1.2 million IRA could pass to 3 children and stay under the limit.

Thanks, and good observation. I edited the post to reflect that.

 

[RunningBum]

Do we know if that is $400K for each type? In other words, if you pass a $350K tIRA and a $375K Roth to each heir, is that an exception, or are all IRAs added together and $325K in this instance would have to be distributed sooner?

I'm assuming all tIRAs are treated as one, and all Roths are treated as one.

 

[CRLLS]

Another question: If one were to leave 400k to adult DS and another 400k to his wife, would the total be tax free by them? It sounds like it might be. Not that I'm suggesting that mind you.

 

[bingybear]

Is this just the same discussion from other threads like "RMD to 72"?. Is this just a re-hash? Or have the two bills changed? Is there more info? Like what happens if an IRA is already stretched but the present beneficiary passes and it goes to the next. Does it stay stretched or go to the new rules?

 

[pb4uski]

Another question: If one were to leave 400k to adult DS and another 400k to his wife, would the total be tax free by them? It sounds like it might be. Not that I'm suggesting that mind you.

It will never be tax-free... it is just a matter of whether it is subject to the proposed 5-year distribution rule.

It says "each beneficiary" so I would say yes... the total $800k would not be subject to the 5 year distribution rule.

 

[CRLLS]

I just thought about that tax free part. I meant to say the 5 yr rule You got to it before I could correct my post. Thanks.

 

[Rianne]

All may be aware of this VG calculator, but does not include info from the specific bill MichaelB mentioned. We're looking at annual W/D from now (62) to 72. We'll see what happens in Congress.
https://personal.vanguard.com/us/insights/retirement/estimate-your-rmd-tool?lang=en

 

[MichaelB]

Is this just the same discussion from other threads like "RMD to 72"?. Is this just a re-hash? Or have the two bills changed? Is there more info? Like what happens if an IRA is already stretched but the present beneficiary passes and it goes to the next. Does it stay stretched or go to the new rules?

Same bill. This thread focuses on a different aspect.

 

[MichaelB]

A little more digging turns up a summary of the house bill.

Summary of house bill https://waysandmeans.house.gov/site...s/documents/SECURE Act section by section.pdf
Summary of senate bill https://www.finance.senate.gov/imo/media/doc/RESA Summary 4.1.19-banner-converted.pdf

House bill section 401

Section 401. Modifications to Required Minimum Distribution Rules
The legislation modifies the required minimum distribution rules with respect to defined contribution plan and IRA balances upon the death of the account owner.

Under the legislation, distributions to individuals other than the surviving spouse of the employee (or IRA owner), disabled or chronically ill individuals, individuals who are not more than 10 years younger than the employee (or IRA owner), or child of the employee (or IRA owner) who has not reached the age of majority are generally required to be distributed by the end of the tenth calendar year following the year of the employee or IRA owner’s death.

Language in the senate bill is in my earlier post.

 

[googily]

There's a good thread over on the Ed Slott forum that seems to be keeping up with each step of the process for these bills:

https://www.irahelp.com/forum-post/...018-passed-house-now-senate-finance-committee

 

[ncbill]

Senate version has enough loopholes to drive a truck through it.

Not worried about my well-under-$400k inherited IRA (taking distributions based on my life expectancy)

 

[kannon]

My error - focus on tIRA (not Roth) and impact. I think the way I read it that beneficiary would be forced to take as lump sum, high(er) tax vice taking as RMD over lifetime. I ran scenarios in spreadsheet and impact is significant. The stretch was just a useful vehicle for reducing taxes when assets get passed to kids.

 

[RunningBum]

Not a lump sum. Spread out over 5 or 10 years. Significant change, but not a lump sum. And only the part over $400K for each heir. How much are you leaving?

 

[GrayHare]

Senate version has enough loopholes to drive a truck through it.

"to the extent that the balance of the account ... does not exceed $400,000."

As written that sounds like splitting an $800k tIRA into two $400k tIRAs would get around the rule. Surely that loophole will be closed, no?

 

[steelyman]

"to the extent that the balance of the account ... does not exceed $400,000."



As written that sounds like splitting an $800k tIRA into two $400k tIRAs would get around the rule. Surely that loophole will be closed, no?

I don’t know that it’s necessary to split into multiple IRAs. Just use designated beneficiaries for the owner’s (original) IRA.

 

[pb4uski]

"to the extent that the balance of the account ... does not exceed $400,000."

As written that sounds like splitting an $800k tIRA into two $400k tIRAs would get around the rule. Surely that loophole will be closed, no?

I doubt it.... that would be too easy... it would likely aggregate accounts for a given beneficiary so you could NOT sidestep by splitting accounts.

Whether the $400k per beneficiary would be applied to tIRAs and Roths combined or separately might be a question.... but I would think combined.

 

[ncbill]

"to the extent that the balance of the account ... does not exceed $400,000."

As written that sounds like splitting an $800k tIRA into two $400k tIRAs would get around the rule. Surely that loophole will be closed, no?

IIRC in some versions of the proposed law you're supposed to pro-rate that, e.g. for a $800k tIRA split between two beneficiaries they'd each have to take $200,000 over the shorter (5-10 year) period.

But I doubt that's trackable, so each of them could likely get away with simply spreading distributions on the entire $400k over their lifetime instead.

Or if one (non-spouse) beneficiary inherits the entire $800k, splitting between custodians (e.g. $400k to Vanguard, $400k to Fidelity) & telling each custodian to calculate RMDs based on life expectancy.

 

[audreyh1]

It seems that in the case of the inherited Roth IRA there are no tax implications for the heir, simply that they can’t leave the money in it to grow tax free indefinitely, and must withdraw the Roth IRA funds over 5 years.